Chapter 17 Multiple Choice- Conceptual

Santo Corporation declares and distributes a cash dividend that is a result of current earnings. How will the receipt of those dividends affect the investment account of the investor under each of the following accounting methods? Fair Value Method/Equity Method A. No Effect/Decrease B. Increase/Decrease C. No Effect/No Effect D. Decrease/No Effect

A. No Effect/Decrease

Koehn Corporation accounts for its investment in the common stock of Sells Company under the equity method. Koehn Corporation should ordinarily record a cash dividend received from Sells as A. a reduction of the carrying value of the investment. B. additional paid-in capital. C. an addition to the carrying value of the investment. D. dividend income.

A. a reduction of the carrying value of the investment.

Companies that attempt to exploit inefficiencies in various derivative markets by attempting to lock in profits by simultaneously entering into transactions in two or more markets are called A. arbitrageurs. B. gamblers. C. hedgers. D. speculators.

A. arbitrageurs.

Equity securities acquired by a corporation which are accounted for by recognizing unrealized holding gains or losses as other comprehensive income and as a separate component of stockholders' equity are A. available-for-sale securities where a company has holdings of less than 20%. B. trading securities where a company has holdings of less than 20%. C. securities where a company has holdings of between 20% and 50%. D. securities where a company has holdings of more than 50%.

A. available-for-sale securities where a company has holdings of less than 20%.

An available-for-sale debt security is purchased at a discount. The entry to record the amortization of the discount includes a A. debit to Available-for-Sale Securities. B. debit to the discount account. C. debit to Interest Revenue. D. None of these answers are correct.

A. debit to Available-for-Sale Securities.

An option to convert a convertible bond into shares of common stock is a(n) A. embedded derivative. B. host security. C. hybrid security. D. fair value hedge.

A. embedded derivative.

Debt securities that are accounted for at amortized cost, not fair value, are A. held-to-maturity debt securities. B. trading debt securities. C. available-for-sale debt securities. D. never-sell debt securities.

A. held-to-maturity debt securities

A variable-interest entity has A. insufficient equity investment at risk. B. stockholders who have decision-making rights. C. stockholders who absorb the losses or receive the benefits of a normal stockholder. D. All of the above are characteristics of a variable-interest entity.

A. insufficient equity investment at risk.

When an investor's accounting period ends on a date that does not coincide with an interest receipt date for bonds held as an investment, the investor must A. make an adjusting entry to debit Interest Receivable and to credit Interest Revenue for the amount of interest accrued since the last interest receipt date. B. notify the issuer and request that a special payment be made for the appropriate portion of the interest period. C. make an adjusting entry to debit Interest Receivable and to credit Interest Revenue for the total amount of interest to be received at the next interest receipt date. D. do nothing special and ignore the fact that the accounting period does not coincide with the bond's interest period.

A. make an adjusting entry to debit Interest Receivable and to credit Interest Revenue for the amount of interest accrued since the last interest receipt date.

The fair value option allows a company to A. value its own liabilities at fair value. B. record income when the fair value of its bonds increases. C. report most financial instruments at fair value at any point of time. D. All of the above are true of the fair value option.

A. value its own liabilities at fair value.

Held-to-maturity securities are reported at A. acquisition cost. B. acquisition cost plus amortization of a discount. C. acquisition cost plus interest. D. fair value.

B. Acquisition Cost plus amortization of a discount

When a company holds between 20% and 50% of the outstanding stock of an investee, which of the following statements applies? A. The investor should always use the equity method to account for its investment. B. The investor should use the equity method to account for its investment unless circum-stances indicate that it is unable to exercise "significant influence" over the investee. C. The investor must use the fair value method unless it can clearly demonstrate the ability to exercise "significant influence" over the investee. D. The investor should always use the fair value method to account for its investment.

B. The investor should use the equity method to account for its investment unless circum-stances indicate that it is unable to exercise "significant influence" over the investee.

Use of the effective-interest method in amortizing bond premiums and discounts results in A. a greater amount of interest income over the life of the bond issue than would result from use of the straight-line method. B. a varying amount being recorded as interest income from period to period. C. a variable rate of return on the book value of the investment. D. a smaller amount of interest income over the life of the bond issue than would result from use of the straight-line method.

B. a varying amount being recorded as interest income from period to period.

Transfers between categories A. result in companies omitting recognition of fair value in the year of the transfer. B. are accounted for at fair value for all transfers. C. are considered unrealized and unrecognized if transferred out of held-to-maturity into trading. D. will always result in an impact on net income.

B. are accounted for at fair value for all transfers.

When a company has acquired a "passive interest" in another corporation, the acquiring company should account for the investment A. by using the equity method. B. by using the fair value method. C. by using the effective interest method. D. by consolidation.

B. by using the fair value method.

A correct valuation is A. available-for-sale at amortized cost. B. held-to-maturity at amortized cost. C. held-to-maturity at fair value. D. None of these answers are correct.

B. held-to-maturity at amortized cost.

When an investment in a held-to-maturity security is transferred to an available-for-sale security, the carrying value assigned to the available-for-sale security should be A. its original cost. B. its fair value at the date of the transfer. C. the lower of its original cost or its fair value at the date of the transfer. D. the higher of its original cost or its fair value at the date of the transfer.

B. its fair value at the date of the transfer.

When an investment in an available-for-sale security is transferred to trading because the company anticipates selling the stock in the near future, the carrying value assigned to the investment upon entering it in the trading portfolio should be A. its original cost. B. its fair value at the date of the transfer. C. the higher of its original cost or its fair value at the date of the transfer. D. the lower of its original cost or its fair value at the date of the transfer.

B. its fair value at the date of the transfer.

Gains or losses on cash flow hedges are A. ignored completely. B. recorded in equity, as part of other comprehensive income. C. reported directly in net income. D. reported directly in retained earnings.

B. recorded in equity, as part of other comprehensive income.

All of the following are characteristics of a derivative financial instrument except the instrument a.has one or more underlyings and an identified payment provision. B. requires a large investment at the inception of the contract. C. requires or permits net settlement. D. All of these are characteristics.

B. requires a large investment at the inception of the contract.

An investor has a long-term investment in stocks. Regular cash dividends received by the investor are recorded as Fair Value Method/Equity Method A. Income/Income B. A reduction of the investment/A reduction of the investment C. Income/A reduction of the investment D. A reduction of the investment/Income

C. Income/A reduction of the investment

Which of the following is not a debt security? A. Convertible bonds B. Commercial paper C. Loans receivable D. All of these are debt securities.

C. Loans Receivable

Which of the following is not generally correct about recording a sale of a debt security before maturity date? A. Accrued interest will be received by the seller even though it is not an interest payment date. B. An entry must be made to amortize a discount to the date of sale. C. The entry to amortize a premium to the date of sale includes a credit to the Premium on Investments in Debt Securities. D. A gain or loss on the sale is not extraordinary.

C. The entry to amortize a premium to the date of sale includes a credit to the Premium on Investments in Debt Securities.

Unrealized holding gains or losses which are recognized in income are from securities classified as A. held-to-maturity. B. available-for-sale. C. trading. D. None of these answers are correct.

C. Trading

Watt Company purchased $300,000 of bonds for $315,000. If Watt intends to hold the securities to maturity, the entry to record the investment includes A. a debit to Held-to-Maturity Securities at $300,000. B. a credit to Premium on Investments of $15,000. C. a debit to Held-to-Maturity Securities at $315,000. D. None of these answers are correct.

C. a debit to Held-to-Maturity Securities at $315,000.

When investments in debt securities are purchased between interest payment dates, preferably the A. securities account should include accrued interest. B. accrued interest is debited to Interest Expense. C. accrued interest is debited to Interest Revenue. D. accrued interest is debited to Interest Receivable.

C. accrued interest is debited to Interest Revenue.

In accounting for investments in debt securities that are classified as trading securities, A. a discount is reported separately. B. a premium is reported separately. C. any discount or premium is not amortized. D. None of these answers are correct.

C. any discount or premium is not amortized.

Debt securities acquired by a corporation which are accounted for by recognizing unrealized holding gains or losses and are included as other comprehensive income and as a separate component of stockholders' equity are A. held-to-maturity debt securities. B. trading debt securities. C. available-for-sale debt securities. D. never-sell debt securities.

C. available-for-sale debt securities.

All of the following are requirements for disclosures related to financial instruments except A. disclosing the fair value and related carrying value of the instruments. B. distinguishing between financial instruments held or issued for purposes other than trading. C. combining or netting the fair value of separate financial instruments. D. displaying as a separate classification of other comprehensive income the net gain/loss on derivative instruments designated in cash flow hedges.

C. combining or netting the fair value of separate financial instruments

Investments in debt securities are generally recorded at A. cost including accrued interest. B. maturity value. C. cost including brokerage and other fees. D. maturity value with a separate discount or premium account.

C. cost including brokerage and other fees.

APB Opinion No. 21 specifies that, regarding the amortization of a premium or discount on a debt security, the A. effective-interest method of allocation must be used. B. straight-line method of allocation must be used. C. effective-interest method of allocation should be used but other methods can be applied if there is no material difference in the results obtained. D. par value method must be used and therefore no allocation is necessary.

C. effective-interest method of allocation should be used but other methods can be applied if there is no material difference in the results obtained.

The accounting for fair value hedges records the derivative at its A. amortized cost. B. carrying value. C. fair value. D. historical cost.

C. fair value.

All of the following statements regarding accounting for derivatives are correct except that A. they should be recognized in the financial statements as assets and liabilities. B. they should be reported at fair value. C. gains and losses resulting from speculation should be deferred. D. gains and losses resulting from hedge transactions are reported in different ways, depending upon the type of hedge.

C. gains and losses resulting from speculation should be deferred.

Investments in debt securities should be recorded on the date of acquisition at A. lower of cost or market. B. market value. C. market value plus brokerage fees and other costs incident to the purchase. D. face value plus brokerage fees and other costs incident to the purchase.

C. market value plus brokerage fees and other costs incident to the purchase.

Securities which could be classified as held-to-maturity are A. redeemable preferred stock. B. warrants. C. municipal bonds. D. treasury stock.

C. municipal bonds.

"Gains trading" or "cherry picking" involves A. moving securities whose value has decreased since acquisition from available-for-sale to held-to-maturity in order to avoid reporting losses. B. reporting investment securities at fair value but liabilities at amortized cost. C. selling securities whose value has increased since acquisition while holding those whose value has decreased since acquisition. D. All of the above are considered methods of "gains trading" or "cherry picking."

C. selling securities whose value has increased since acquisition while holding those whose value has decreased since acquisition.

A reclassification adjustment is reported in the A. income statement as an Other revenue or expense. B. stockholders' equity section of the balance sheet. C. statement of comprehensive income as other comprehensive income. D. statement of stockholders' equity.

C. statement of comprehensive income as other comprehensive income.

Jordan Company purchased ten-year, 10% bonds that pay interest semiannually. The bonds are sold to yield 8%. One step in calculating the issue price of the bonds is to multiply the principal by the table value for A. 10 periods and 10% from the present value of 1 table. B. 10 periods and 8% from the present value of 1 table. C. 20 periods and 5% from the present value of 1 table. D. 20 periods and 4% from the present value of 1 table.

D. 20 periods and 4% from the present value of 1 table.

Which of the following is not correct in regard to trading securities? A. They are held with the intention of selling them in a short period of time. B. Unrealized holding gains and losses are reported as part of net income. C. Any discount or premium is not amortized. D. All of these are correct.

D. All of these are correct

A requirement for a security to be classified as held-to-maturity is A. ability to hold the security to maturity. B. positive intent. C. the security must be a debt security. D. All of these are required.

D. All of these are required

If the parent company owns 90% of the subsidiary company's outstanding common stock, the company should generally account for the income of the subsidiary under the A. cost method. B. fair value method. C. divesture method. D. equity method.

D. Equity method

Dublin Company holds a 30% stake in Club Company which was purchased in 2015 at a cost of $3,000,000. After applying the equity method, the Investment in Club Company account has a balance of $3,040,000. At December 31, 2015 the fair value of the investment is $3,120,000. Which of the following values is acceptable for Dublin to use in its balance sheet at December 31, 2015? I. $3,000,000 II. $3,040,000 III. $3,120,000 A. I, II, or III. B. I or II only. C. II only. D. II or III only.

D. II or III only.

Which of the following are considered equity securities? I. Convertible debt. II. Redeemable preferred stock. III. Call or put options. A. I and II only. B. I and III only. C. II only. D. III only.

D. III only.

Which of the following is correct about the effective-interest method of amortization? A. The effective-interest method applied to investments in debt securities is different from that applied to bonds payable. B. Amortization of a discount decreases from period to period. C. Amortization of a premium decreases from period to period. D. The effective-interest method produces a constant rate of return on the book value of the investment from period to period.

D. The effective-interest method produces a constant rate of return on the book value of the investment from period to period.

A debt security is transferred from one category to another. Generally acceptable accounting principles require that for this particular reclassification (1) the security be transferred at fair value at the date of transfer, and (2) the unrealized gain or loss at the date of transfer currently carried as a separate component of stockholders' equity be amortized over the remaining life of the security. What type of transfer is being described? A. Transfer from trading to available-for-sale B. Transfer from available-for-sale to trading C. Transfer from held-to-maturity to available-for-sale D. Transfer from available-for-sale to held-to-maturity

D. Transfer from available-for-sale to held-to-maturity

Judd, Inc., owns 35% of Cosby Corporation. During the calendar year 2014, Cosby had net earnings of $300,000 and paid dividends of $30,000. Judd mistakenly recorded these transactions using the fair value method rather than the equity method of accounting. What effect would this have on the investment account, net income, and retained earnings, respectively? A. Understate, overstate, overstate B. Overstate, understate, understate C. Overstate, overstate, overstate D. Understate, understate, understate

D. Understate, understate, understate

Under U.S. GAAP, which of the following models may be used to determine if an investment is consolidated? Risk-and-reward model/ Voting-interest approach A. Yes/No B. No/Yes C. No/No D. Yes/Yes

D. Yes/Yes

Under the equity method of accounting for investments, an investor recognizes its share of the earnings in the period in which the A. investor sells the investment. B. investee declares a dividend. C. investee pays a dividend. D. earnings are reported by the investee in its financial statements.

D. earnings are reported by the investee in its financial statements.

Impairments are A. based on discounted cash flows for securities. B. recognized as a realized loss if the impairment is judged to be temporary. C. based on fair value for available-for-sale investments and on negotiated values for held-to-maturity investments. D. evaluated at each reporting date for every investment.

D. evaluated at each reporting date for every investment.